Doctoral thesis of philosophy contemporary working capital practices in australia

CONTEMPORARY WORKING CAPITAL PRACTICES IN AUSTRALIA By YILANG ZHAO This thesis is submitted in fulfilment of the requirements for the degree of Doctor of Philosophy School of Economics, Finance and Marketing RMIT University March 2011 DECLARATION I certify that, except where due acknowledgement has been made, the work is that of the author alone; the work has not been submitted previously, in whole or in part, to qualify for any other academic award; the content of the thesis is the result of work that has been carried out since the official commencement date of the approved research programme; any editorial work, paid or unpaid, carried out by a third party is acknowledged; and ethics procedures and guidelines have been followed Signed: Yilang Zhao i ACKNOWLEDGEMENTS The completion of this thesis would not have been possible without the help and support of God, my family, the academic, library, and computer laboratory staff of the Royal Melbourne Institute of Technology, my friends, and all those who have directly and indirectly contributed to this work Dr Vikash Ramiah has been the most open-minded senior supervisor I have ever encountered I am very thankful for his guidance, expertise, and support through all these years I would like to express my sincere thanks to my second supervisor, Professor Tony Naughton, for his research expertise and positive and constructive feedback It is important to extend my gratitude to Professor Richard Heaney, Dr Aston De Silva, and Professor Tim Fry for their valuable comments on my thesis I would also thank Alicia Brewer and Joelma Nascimento for their editing assistance This research would not have been possible without the support of the Melbourne Centre for Financial Studies, the Finance and Treasury Association, and the practitioners who participated in this research Furthermore, I would like to recognize the financial assistance of a Research and Training Scheme research scholarship Finally, and most importantly, I would like to thank my parents and my wife Xiaoming for their support and love through all these years ii TABLE of CONTENTS DECLARATION i ACKNOWLEDGEMENTS ii TABLE of CONTENTS iii LIST of TABLES vi LIST of FIGURES viii ABSTRACT CHAPTER 1: INTRODUCTION 1.1 Background 1.2 Motivation and Research Questions 1.3 Approach and Methodology 1.4 Thesis Contributions 1.5 Thesis Structure CHAPTER 2: LITERATURE REVIEW 2.1 Introduction 2.2 Working Capital Management 2.2.1 Risk Management 2.2.2 Innovative Aspects of Working Capital Management in Australia 11 2.3 Cash Management 19 2.4 Inventory Management 21 2.5 Accounts Receivable Management 22 2.6 Debt Management 23 2.7 Behavioural Bias 24 2.8 Education 28 2.9 Foreign Sales 29 2.10 Industry Factors 29 2.11 Gender 29 2.12 Size 30 2.13 Company Performance 30 2.14 Age 31 2.15 Credit Ratings 31 2.16 Listing 32 2.17 The GFC 32 2.18 Conclusion 34 CHAPTER 3: METHODOLOGY 36 3.1 Introduction 36 3.2 Research Objectives 37 3.3 Research Method 39 3.3.1 Meeting with Practitioners 40 FTA 40 iii FTA conference 40 Interviews 43 Ethics approval 44 3.3.2 Designing the Survey Questionnaire 45 3.3.3 Question Design 46 3.3.5 Pilot Test 55 3.3.6 The Questionnaire 56 3.3.7 Sample Selection 57 3.3.8 Delivery and Response 58 3.3.9 Data Confidentiality 59 3.3.10 Data Security 59 3.4 Data analysis 60 3.4.1 Confidence Interval (CI) 61 3.4.2 Ordinal Regression Model: The Robustness Test 63 3.4.3 Data Mining Problem 64 3.5 Conclusion 64 CHAPTER 4: WORKING CAPITAL MANAGEMENT 81 4.1 Introduction 81 4.2 Working Capital Management 82 4.3 Cash Management 96 4.4 Inventory Management 108 4.5 Accounts Receivable Management 113 4.6 Debt Management 116 4.7 Risk Management 124 4.8 Conclusion 127 CHAPTER 5: FUNDAMENTAL ANALYSIS OF WORKING CAPITAL MANAGEMENT 128 5.1 Introduction 128 5.2 Size 128 5.3 Credit Rating 131 5.4 Foreign Sales 132 5.5 Listing 133 5.6 Firm Performance 134 5.7 Gender 135 5.8 Age 136 5.9 Education 136 5.10 Industry 137 5.11 Conclusion 140 CHAPTER 6: BEHAVIOURAL ASPECTS OF WORKING CAPITAL MANAGERS 171 6.1 Introduction 171 6.2 Self-Serving Bias 172 6.3 Overconfidence Bias 174 6.4 Loss Aversion Bias 175 6.5 Anchoring and Representativeness Bias 177 6.6 Profiling a Good Corporate Treasurer 179 iv 6.7 Conclusion 181 CHAPTER 7: The GLOBAL FINANCIAL CRISIS AND WORKING CAPITAL MANAGEMENT 195 7.1 Introduction 195 7.2 Impact of the GFC on Working Capital Management 196 7.3 Impact of the GFC on Cash Management 196 7.4 Impact of the GFC on Inventory Management 197 7.5 Impact of the GFC on Accounts Receivable Management 197 7.6 Impact of the GFC on Debt Management 198 7.7 Conclusion 198 CHAPTER 8: ROBUSTNESS TEST 200 8.1 Introduction 200 8.2 Methodology 200 8.3 Results 201 8.4 Conclusion 202 CHAPTER 9: CONCLUSION 229 9.1 Overview 229 9.2 Thesis Summary 230 9.3 Key Contributions of Thesis 232 9.3.1 Contributions to General Working Capital Management 233 9.3.2 Contributions to a Fundamental Analysis of Working Capital Management 234 9.3.3 Contributions to a Behavioural Analysis of Working Capital Management 234 9.3.4 Contributions to the Impact of the GFC on Working Capital Management 235 9.4 Limitations of the Study and Directions for Future Research 235 REFERENCES 236  v LIST of TABLES Table 3.1 Draft Questionnaire (see Table 3.7 for the final questionnaire) 65 Table 3.2 Interview Cover Letter 70 Table 3.3 Plain Language Statement (PLS) for Interview 71 Table 3.4 Interview Consent Form 73 Table 3.5 Questionnaire Cover Sheet 75 Table 3.6 Plain Language Statement for Questionnaire 76 Table 3.7 Survey Questionnaire 78 Table 4.1 Working Capital Practices in Australian Firms 86 Table 4.2 Key Value Metrics in Australian Firms 91 Table 4.3 Working Capital Management Methods in Australian Firms 95 Table 4.4 Methods for Cash Management in Australian Firms 103 Table 4.5 Factors Perceived to Be Important for Cash Management 107 Table 4.6 Inventory Management Approaches in Australian Firms 112 Table 4.7 Motivations for Australian Firms to Use Accounts Receivable Rather than Cash 115 Table 4.8 Factors Perceived to Be Important for Debt Management in Australian Firms 120 Table 4.9 Preferred Sources of Funding 123 Table 4.10 The Importance of Risk Management During the GFC 126 Table 5.1 Fundamental Factors Affecting Working Capital Management 141 Table 5.2 Fundamental Factors Affecting Key Value Metrics in Working Capital Management 144 Table 5.3 Fundamental Factors Affecting Working Capital Management Approaches 147 Table 5.4 Fundamental Factors Affecting Cash Management 150 Table 5.5 Importance of Factors Affecting Cash Management with Firm Characteristics 153 Table 5.6 Fundamental Factors Affecting Inventory Management 156 Table 5.7 Fundamental Factors Affecting Motivations of Accounts Receivable Management 159 Table 5.8 Fundamental Factors Affecting Debt Management 162 Table 5.9 Fundamental Factors Affecting Funding Method Preferences 165 Table 5.10 Fundamental Factors Affecting the Importance of Risk Factors 168 Table 6.1 Behavioural Biases Affecting Working Capital Management 182 Table 6.2 Behavioural Biases Affecting Key Value Metrics 183 Table 6.3 Behavioural Biases Affecting Working Capital Management Methods 184 Table 6.4 Behavioural Biases Affecting Cash Management 185 Table 6.5 Importance of Factors Affecting Cash Management with Behavioural Biases 187 Table 6.6 Behavioural Biases Affecting Inventory Management 189 Table 6.7 Behavioural Biases Affecting Inventory Management 190 Table 6.8 Behavioural Biases Affecting Debt Management 191 Table 6.9 Behavioural Biases Affecting Preference Source of Funding 193 Table 6.10 Behavioural Biases Affecting Risk Management 194 Table 8.1 Robustness Test for Factors Affecting Working Capital Management Approaches 203 Table 8.2 Robustness Test for Factors Affecting Key Value Metrics 205 vi Table 8.3 Robustness Test for Factors Affecting Working Capital Management Methods 207 Table8.4 Robustness Test for Factors Affecting Cash Management 209 Table 8.5 Robustness Test for Factors Affecting Cash Decisions 213 Table 8.6 Robustness Test for Factors Affecting Inventory Management 217 Table 8.7 Robustness Test for Factors Affecting Trade Credit 219 Table 8.8 Robustness Test for Factors Affecting Debt Policies 221 Table 8.9 Robustness Test for Factors Affecting Funding Preference 225 Table 8.10 Robustness Test for Factors Affecting Risk Management 227 Table 9.1 Different Working Capital Tools Tested and the Proportions of Respondents 231 vii LIST of FIGURES Fig 2.1 A simplified company structure chart 12 Fig 2.2 Key performance indicators for accounts receivable 12 Fig 2.3 Working capital level chart 13 Fig 3.1 Fundamental factors that can affect working capital management 38 Fig 3.2 Various behavioural biases that can affect working capital management 39 Fig 3.3 Self-serving bias question design 51 Fig 3.4 Overconfidence bias question design……… 52 Fig 3.5 Anchoring bias question design……… 53 Fig 3.6 Loss aversion bias question design 54 Fig 3.7 The response rates of the mail survey and online questionnaire 58 Fig 3.8 An example of a CI 61 Fig 4.1 Working capital practices in Australian firms 85 Fig 4.2 Key value metrics in Australian firms 90 Fig 4.3 Methods for working capital management in Australian firms 94 Fig 4.31 A simple example of the netting system 99 Fig 4.4 Cash management methods in Australian firms 102 Fig 4.5 Factors perceived to be important for cash management 106 Fig 4.6 Inventory management approaches in Australia 111 Fig 4.7 Motivations for Australian firms to use accounts receivable rather than cash 114 Fig 4.8 Factors perceived to be important for debt management in Australian firms 119 Fig 4.9 Preferred sources of funding 122 Fig 4.10 Importance of risk management during the GFC period 125 Fig 6.1 Identification of the self-serving bias 173 Fig 6.2 Identification of the overconfidence bias 175 Fig 6.3 Loss aversion bias: gains and losses as a percentage of sales revenue 176 Fig 6.4 Identification of the anchoring bias 178 Fig 6.5 Profile of a good corporate treasurer 180 Fig 7.1 Cash levels during the GFC 197 viii ABSTRACT Corporate finance focuses on investment and financing decisions Within this framework, however, the finance literature has given little consideration to working capital management Similarly, in practice, working capital managers are regarded as passive contributors to major business decisions This thesis attempts to increase academic awareness of the importance of working capital management When we combine the existing literature with recent events, such as industrial technological advances, changes in Australian accounting standards, and the global financial crisis, a fertile research ground is evident and allows us to explore current practices in working capital management Data are collected through interviews with 10 corporate treasurers and a survey of 120 Australian corporations to document the approaches used by working capital managers 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250 - Zuckerman, M (1979), ‘Attribution of success and failure revisited, or: The motivational bias is alive and well in attribution theory’, Journal of Personality, 47, pp 245-287 - 251 - ... fifth arm of working capital management 2.2.2 Innovative Aspects of Working Capital Management in Australia The last survey on working capital practices in Australia was conducted in 1989 (Belt... goal of this thesis is to document the contemporary practices of working capital managers Belt and Smith (1991) surveyed working capital managers in Australia in 1989 and documented working capital. .. of objectives, with the main aim of examining and evaluating the theory and practice of working capital management in Australian companies Specifically, structural changes in Australian working